Introduction
Companies undertake business based on strategy and goals laid down by different shareholders. Since, companies involve a lot of stakeholders such as directors, employees and consumers they have to be bound by certain rules, laws and regulations. In Australia, the Corporations Act is the law that governs the formation, operation and termination of companies operating within the Australian jurisdiction. This essay is going to examine two cases that made use of the statutes of the Corporations Act in the pursuit of resolving the differences that persisted. These two cases have been used as reference points in deciding other cases in Australia.
The AWA Case
In the year 1992, a case was filed in court and it was AWA ltd. vs. Daniels, the case revolved around the duties and responsibilities of directors in a company. The judge, in this case, Rodgers CJ held that non-executive directors of this company should only be held liable to the duties stipulated in company laws. This case was the first in its kind whereby duties and liabilities of directors were clearly defined by the law. According to the Corporations Act, directors of companies are allowed to exercise care and diligence when they undertake or discharge their duties. The judgment handed down by Rodgers, in this case, made a decision that the duties of the directors were to be decided under subjective terms. For instance, the judge ruled that a practical approach has to be used in deciding the duties and work that should be undertaken by directors in a company (Walker 2005). The judgment handed down by the presiding judge held that the executive directors were just liable for gross misconduct and negligence. As a result, these directors could only delegate duties to employees of the company.
As the law had not been defined in the past, it was hard to understand why directors of a company could act in a manner that pleased them. Therefore, when directors acted in a manner that compromised the company, their duties were only viewed under subjective terms. Under subjective terms, the directors could not be held liable for their actions unless they breached their duty by being grossly negligent. This was the case as it was held in the case of In Re City Equitable Case where the duties of the directors depended on the individual directors’ abilities. In the appeal of the AWA ltd. Vs Daniels 1992 case the judges came out with a different approach in handling the duties of non-executive directors. The appeal was heard in 1995, decided that the duties of directors be decided based on objective views. In this case, the directors of a company should be subjected to competence on their parts (Priestley 1995, p. 167). As a result, directors including non-executive ones should undertake informed and independent decisions that required their active participation. Consequently, the directors in the AWA case were however not found to have done any mistake concerning undertaking their duties. This ruling was monumental in the fact that it enforced and made precedence in the way directors undertake their work (Borrowdale 2003). Moreover, it amended the view that the liability of directors was only limited to gross misconduct.
Re City Equitable
This is another case that touched on the issue of companies and their directors in relation to the duty of care. According to the law, directors are required to exercise a duty of care in the process of undertaking their duties. In the case of Re City Equitable Fire Insurance Co., the judge held that a director needed to exercise a greater performance or duty that is greater than the skill that may reasonably be expected from that person. As a result, the judge was of the view that a director is only liable to the extent of the skills and capabilities that he/she can undertake. In relation to his case, we witness that the directors did not need to have a degree in actuary to come up with good decisions. As result, the duty of care was based on the fact that the law had subjective meaning according to the judgment handed down by the court. Several arguments were brought forward to support the subjective way in which duty of care was supposed to be undertaken.
This greatly differed from the Daniel Vs s AWA ltd. 1995 court of appeal decision that ruled that directors had to be informed of the decisions and actions of their decisions on the company. As a result, an objective view of directors had to be established all the time in the process of undertaking his/her duties. The major argument that the Re City Equitable Fire Insurance Co case relied upon was that if a director of a company discharged duties or acted within his/her powers in regards to their experience and honestly for the benefit of the company they represent then they have done nothing wrong. This was also applied in the case of Lagunas Nitrate Co. v. Lagunas Syndicate were the directors of the company were understood to have the need to undertake the duties subjectively (English 1996, p. 120). Therefore, it is not right for directors to be held liable for problems that arise from the poor judgment of the issues or situation.
Another argument to support the need for a subjective view of the duties and work of company directors is based on the nature of company management. Company directors only operate within the company on short periods such as board meetings, committee meetings which are not bound to attend all of these meetings. Moreover, in relation to the running of the company’s activities as seen in the articles of association and the company’s constitution, directors are not part of the daily running of a company (Walker 2005, p. 89). As a result, managers are left to undertake the duties of running the company on behalf of the directors. Therefore, the question arises that is it the duty of the director to ascertain that the manager or accountant is telling the truth. This is the question that arose in this case and the directors were not held liable for losses incurred by Re City Equitable Fire Insurance Co due to the subjective view of the duty of the directors in relation to the action of the auditors.
Legal Issues
The two cases above have exhibited the differences in the interpretation of the law in relation to Corporations. The appeal of 1995 concerning the case of Daniels vs. AWA ltd brought about the insertion of business judgment law into common law. This is that negligence and lack of capability or skill should be used by directors in relation to the running of companies. The appeal of the AWA case was a stepping stone to the development of laws to deal with Corporations and this led to regulation of duties of directors, employees and major stakeholders within any company or corporation. The best way in which issues related to duties and care of directors were resolved revolved around past decisions undertaken by different courts in Australia regarding legal cases (Tomasic 2002). The Law Commission of Australia has also in the past maintained that both the subjective and objective views have to be used in determining cases. This is because the statutes concerning the duties of directors were stated in the Insolvency Act of 1986 under section 214.
According to this statute, the subjective standard applies to a director if only improves the objective standard. For instance, in the case of Re City Equitable Fire Insurance Co, the directors were only subjected to the performance of their duties according to their capabilities. This approach enabled the directors to protect themselves against liability even though nothing suggests that these directors were not capable of understanding the situation. Therefore, after the appeal of the AWA vs. Daniels case in 1995, several arguments were made to push for a two-test view. For instance, in the case of Re Brazilian Rubber Plantations & Estates ltd where the judge held that a director may undertake the management of the company in complete ignorance of any skills required to run a rubber company. In relation to the above case, the judge had the view that a director does not have competency in running a rubber company and therefore an appointed director should not try to evade liability (Priestley 1995, p. 120). The imposition of duty is important in deciding the liability that directors have in relation to the management of companies.
The liability of a director should be tied to the imposed duty as seen in Re Cardiff Savings Bank where the bank had a six-month-old director appointed. In the 39 years of service, this director only attended one meeting before the bank went insolvent. Therefore no liability was admitted to the director in this case and thus the Insolvency Act of 1986 was introduced. This law had a strict liability that was to be administered to new directors. Some of the measures included directors should receive appropriate training before undertaking their duties (English 1996, p. 167). As a result, directors’ care of duty and liability in relation to exercising their powers were reinforced.
Recent Developments
Laws and legislation dealing with the law in Australia have come a long way from the rogue years in the 1980s when directors were responsible for fraud yet they used the law to run away from liability. The Insolvency Act of 1986 was enacted with the purpose of reigning in rogue directors. One of the provisions of the law was that directors had to have qualifications to undertake their duties. The duties and liabilities of directors were clearly exhibited in the case of Daniels vs. Anderson, where a bank made a Forex trader lose money. The bank in reverse sued its auditors who in turn claimed that the company’s directors were negligent. In its judgment, the New South Wales court of appeal held that both the auditors and company directors were liable for improper oversight (Finch 2002). This case led to the development of the Corporate Law Economic Reform Program Act 1999, which had a section 180(2) with a business judgment rule. This clause states that directors of a company cannot be held liable for their actions if they informed themselves of the subject matter and believe that their actions were appropriate.
The business judgment rule applies in most cases except where insolvency is involved. For instance, if a director of a company knows a company will become insolvent and takes no action then he/she would be held liable and required to pay compensation (Furrow 2011, p. 62). This led to the development of new laws that could govern the operation of corporations such as the Corporations Act of 2001. This law was enacted to protect corporations, directors and various stakeholders within corporate Australia. This law was enacted with the Australian Securities and Investments Commission Act 2001 and it is overseen by the Australian Securities and Investments Commission (ASIC). The duties of directors according to this law include acting in the interests of the company, using power for a proper purpose and avoiding conflicts of interest. Directors are mandated to make use of their powers for the proper purposes such as raising capital and informing shareholders of company developments (Spencer 2007). For instance, in the case of Whitehouse v Carlton Hotel L&H 306, the issue of shares was invalidated since the purpose of issuing of share was meant to benefit one party.
The enactment of the Corporations Act has led to the protection of shareholder interest since the watchdog authority of ASIC exercises its authority accordingly. Penalties and criminal liabilities are administered under different provisions of the Act. For instance, section 181 of the Act has designated penalties to be levied on directors breaching the provisions of the Act. Directors are also not supposed to participate in a conflict of interests since they are supposed to disclose such conflicts in time. In the case of The Duke Group Ltd v Pilmer, the issue of conflict of interest arose since a director had an interest in both companies that were involved in a takeover deal. Such breaches of law could attract jail terms or fines exceeding $ 100,000. In some cases, if a director makes some secret profits out of the conflict of interest, these profits can be taken by the company (Furrow 2011, p. 63-65). Most importantly is section 180 of the Act that provides for the duties and powers of directors. For instance, section 180(1) states that a director must exercise their power to discharge their duties with care and diligence. This should be done in a reasonable manner in a way a reasonable person would do if he/she was a director or officer of a company (Borrowdale 2003, p. 186). The Act has been amended to include other provisions that strengthen the duties and ensure duty of care is exercised by directors of a company.
Conclusion
Directors act on behalf of shareholders and therefore they should exercise their duties with care and caution. This is because the interests of shareholders and other stakeholders are important. The law in the past had a subjective standard that led to directors undertaking wrong decisions that led to losses yet liability was never admitted to these directors. However, several legal cases led to an objective approach to liability being administered by courts on the duty of care as undertaken by directors. The need for an objective and proper approach to the law was summed by Hon. Justice Michael Kirby advocated for the need for laws to deal with company directors. Consequently, the enactment of the Corporations Act of 2001 dealt with this problem effectively and today directors exercise their duty of care in a proper manner.
References
Borrowdale, 2003, Duties and Responsibilities of Directors and Company Secretaries, Penguin Publishing, London.
English, L & Guthrie, J 1996, ‘An Overview of Directors’ Obligations and Accountability Standards for Government Business Enterprises in the 1990s’ Australian Journal of Corporate Law, vol. 7, no. 1, pp. 120.
Finch, V 2002, Corporate Insolvency Law: Perspectives and Principles, Cengage Learning, Melbourne.
Furrow, B 2011, ‘Understanding Corporations Law in Australia’, The Public Defender, vol. 17, no. 2, pp. 62-66.
Priestley, J & Kirby M 1995, ‘Rethinking Company Law and Practice’, Australian Journal of Corporate Law, vol. 5, no. 1, pp. 167.
Spencer, D & Brogan, M 2007, Mediation Law and Practice, John Wiley and Sons, London.
Tomasic, R Bottomley, S & McQueen R 2002, Corporation Law in Australia, Pelshiver, Sydney.
Walker, G 2005, Commercial Applications of Company Law in Australia & New Zealand, Thomson Learning, Adelaide.